Small generators in power struggle

ONE of the biggest beneficiaries of the price on carbon, Hydro Tasmania, has dramatically scaled back its ambitions. This follows the federal government's decision to pave the way for the local carbon market to be integrated with Europe's, while cutting the floor price.

This has put it under greater pressure to carve out a large presence in the national electricity market as it seeks to expand beyond its home base.

The national electricity market is steadily moving towards a structure similar to banking, aviation and retail - a couple of dominant players and a rump of small operators fighting over the balance.

Last year, AGL bought the Loy Yang A power station and is a keen bidder for a big part of the New South Wales government's generation assets that are up for sale. If it succeeds, this will leave energy retailing and generation dominated by Origin Energy, EnergyAustralia (the former TRUenergy) and AGL.

Smaller groups such as Hydro Tasmania, which has about 5 per cent of the national electricity market, will be increasingly exposed to the market power of the bigger companies.

To protect its position, Hydro Tasmania bought retailer Momentum Energy a few years ago for more than $40 million. Other generators such as ERM are also pushing to expand sales.

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Momentum generated revenue of more than $500 million in the year to June. This is expected to rise by as much as 50 per cent this financial year, as the company attempts to lift annual revenue to $1 billion by 2014-15.

Mainland sales already make up half of Hydro Tasmania's revenue, helped by Momentum, as well as sales into the national market via the undersea Basslink cable.

The government's carbon pricing decision put Hydro Tasmania in the strongest position of any generator nationally, giving it an immediate lift in wholesale prices while - unlike all other generators, barring Snowy Hydro - it does not have to pay a carbon tax.

The shift in market economics has been evidenced by Victoria's brown coal generators cutting capacity because of weak electricity demand and a poor competitive position.

Hydroelectricity apart, Hydro Tasmania has boosted its exposure to wind energy, which gives it flexibility in supplies if mainland sales exceed its hydro-generation capacity.

As critics lament the reduction in competition, the concentration of the power industry - as generators and retailers merge into so-called ''gentailers'' - has helped revive margins, which had fallen steadily in the national electricity market.

''It de-risks our core business - it gives us vertical integration,'' says the Hydro Tasmania managing director, Roy Adair, who has previously ran large power groups in Britain, Victoria and Singapore.

''If you're going to cover your risk, you can't be long on generation with no retail capability, and similarly you can't afford, if you're a retailer, to be always looking for generation to back your load. It is absolutely imperative to have that 'gentailer' capability, which does de-risk the business.''

That risk was underscored by AGL when its New Zealand operations collapsed a decade ago after inadequate risk controls left it with hundreds of millions of dollars in losses, forcing it to close shop after just four days of market movements.

Similarly, poor risk assessment on the part of Fred Hilmer effectively destroyed Pacific Power, the former NSW government entity that held all the state's generation assets.

And putting a price on carbon has fundamentally changed the industry's dynamics, giving Tasmania the lowest wholesale electricity costs in the national market.

''It enables us to get a degree of certainty for the sales we make across Basslink,'' Adair says. ''Once Basslink was constructed in 2006, we naturally had a significant risk [from imports], and [Momentum] has enabled us to address that, and also provide us with the opportunity to establish a brand image for Hydro Tasmania.

''There is no cap on Momentum's growth. We are Australia's largest clean energy producer, in terms of the number of gigawatts of energy produced with zero emissions.''

This gives the company flexibility if it needs to cover any part of its electricity market exposure by buying output from thermal generators given that generators using gas have a carbon intensity of 0.45. This is half that of black coal generators in Queensland and NSW, which at 0.9 is still much lower than brown coal at 1.3.

It will be some time before the [zero emissions] position is emulated, Adair says.

The strong dollar has wiped out the cheap energy advantage of local industry, forcing shutdowns that have led to falling power demand. In Tasmania, a few large industrial users account for as much as 40 per cent of Hydro Tasmania's output, leaving it vulnerable to shutdowns. ''If we lost a major industrial customer, that would be more load to go across the link'' to the mainland, Adair says.

But while a price on carbon has handed Hydro Tasmania a clear competitive advantage, the move to link Australia's carbon price with that of Europe is a threat. Consequently, Hydro Tasmania has slashed forward profit estimates, and the chances of a second link to the mainland have dimmed.

''There is significant uncertainty … as to what will happen to a future carbon price,'' Adair says. ''There is certainly significant potential for renewable energy capability in Tasmania. It is a question of whether you can economically transfer that across to the mainland so that you can compete with the prices that pertain in that marketplace to renewable energy sources.''

The greatest uncertainty may come from any change in government, given the Coalition intends to abolish the price on carbon.

Before that, the national electricity market is to be reshaped again with the looming sale of generation assets in NSW and talk of Queensland following suit, and with the pending reorganisation of the Tasmanian power sector.

''The concentration of the market with a limited number of players is one we are keeping a very close eye on because we need the ability to back our load and, in addition to Basslink, we need the ability of other generators apart from those that belong to the big three to be able to do that,'' Adair says.

''We're looking for a liquid market, so obviously our strategy will always look to ensure we have certainty of supply.''

The push into the mainland electricity market is being driven by Momentum's managing director, Nigel Clark, a former commodity trader, who spent time with TRUenergy before joining Momentum.

''We've built a very competitive retail model, ensuring our cost to serve is low, that we are very responsive to the marketplace, that we have a very strong brand image and we're able to capitalise on the brand value that we have here, particularly the clean energy of our electricity,'' he says.

''Some retailers have gone to the wall because they didn't manage the issue of billing customers promptly. Cash is king and you need to ensure your liquidity is well served, because you have to pay on a regular basis on terms clearly agreed within the national electricity market for generation. And therefore you need to ensure you've got

your money coming in to pay those bills.''

The other potential addition to Hydro Tasmania's armoury is access to gas-fired generation from the Tamar Valley power station near Launceston in northern Tasmania, and in particular any gas supply contracts.

''Dual fuel is an issue we are keeping under review,'' Clark says.

For electricity retailers, an offering of gas and electricity is a handy marketing pitch while sustaining margins.

''The issue of dual fuel could be addressed as part of the market review process, and if Tamar Valley came to us there would be appropriate contracts,'' Clark says.

The reform process also involves privatising power retailing in Tasmania.

Caution over the carbon price outlook has prompted the Tasmanian government to cut its forecast receipts from Hydro Tasmania to $200.8 million in 2015-16, well below the $257 million it expects to receive in 2014-15.

The company, which generates all its electricity from renewable energy sources - hydro and wind - is one of the prime beneficiaries of putting a price on carbon, which has helped push up wholesale electricity prices and boosted its bottom line.

The carbon price is expected to push Hydro Tasmania's profit to as high as $289 million in 2013-14, before dropping to $169 million two years later, which makes the push by the group to carve out a significant slice of the mainland electricity market even more imperative.